US embassy cable - 04ANKARA3257

UNCLAS SECTION 01 OF 03 ANKARA 003257 
 
SIPDIS 
 
 
SENSITIVE 
 
 
STATE FOR E, EUR/SE, AND EUR/IFD 
TREASURY FOR OASIA - MMILLS, RADKINS 
NSC FOR BRYZA AND MCKIBBEN 
 
 
E.O. 12958: N/A 
TAGS: EFIN, EIND, ECON, TU 
SUBJECT: UPDATE ON THE (STALLED) PRIVATIZATION PROGRAM 
 
1.(Sbu) Summary. The travails of the Tupras privatization and 
recent meetings with Privatization Authority (PA) officials 
and other contacts confirm that Turkey,s privatization 
program continues to be plagued by PA mistakes, which opens 
the way for vested interests to use the courts to block 
privatizations and an excessive focus on the proceeds of the 
sale rather than the efficiency gains to the economy. The 
bottom line is that only one significant privatization has 
taken place since the current government came to power, and 
all the major privatizations seem to be moving at a snail's 
pace. On June 10, Finance Minister Unakitan optimistically 
claimed the GOT would realize deals worth $2.3 billion in 
2004, of which $468 million would be in cash. End Summary. 
 
 
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Overview 
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2. (Sbu) Although the current Government is widely considered 
to support privatization more than previous governments, its 
track record continues to underwhelm.  In 2003 (AKP,s first 
full year in power), the GOT projected privatization proceeds 
for the year of USD four billion, and for the period 2003-06 
of 12.4 billion. 2003 was marked, however, by high-profile 
debacles--the failures of Tekel tobacco and Petkim--and slow 
motion on the other large privatizations.  Finalized deals 
totaled only some USD 900 million, most of which were small 
transactions. For 2004, GOT reduced its target for total 
sales to only USD 1.2 billion.  Trying to put the best 
possible face on the situation, at a press conference June 
10, just after the courts blocked the $1.3 billion Tupras 
privatization, Finance Minister Unakitan claimed the GOT 
would realize sales in 2004 worth $2.3 billion of which only 
$468 million would be in cash.  These estimates seem highly 
optimistic, even if the Tupras deal goes through. Just in the 
past year, the GOT 's inability to conclude three large 
privatizations has cost it $3 billion in revenues and, more 
importantly, an opportunity to accelerate the reform process 
and enhance market confidence. 
3. (Sbu) In separate meetings with econoffs, Privatization 
Authority President Metin Kilci and Vice President Osman 
Ilter claimed they were proceeding as quickly as possible, 
but the subtext of the discussions was that any particular 
privatization will occur only if the sale price is 
politically palatable. 
4.(Sbu) Post has previously reported the PA,s problems with 
excessively high internal valuations, and officials, fears 
of being criticized or even prosecuted for selling below the 
internal valuation.  Moreover, senior GOT officials tend to 
focus only on the fiscal benefit to the state from the 
proceeds of the privatization, rather than on the efficiency 
gains to the economy.  PA President Kilci told us that senior 
GOT officials measure the PA's success purely in terms of 
revenue raised. 
5.(Sbu) In recent weeks, as the Tupras privatization has 
become ensnarled in the courts (see below), two post contacts 
from outside the government have privately accused the PA of 
technical and legal incompetence that leaves it open to court 
challenges from the many vested interests opposed to 
privatization.  Faik Oztrak, the former Treasury 
Undersecretary, told econcouns that the PA is required to 
accept only unconditional bids, but accepted a conditional 
bid on the Tupras deal.  Likewise, Ergun Okur, EVP of Oyak 
Group, said the PA had made mistakes in conducting the Tupras 
privatization process. 
6.(Sbu) If the privatization process seems slow now, it may 
get worse: Kilci acknowledged that the PA has about a year to 
finalize its most contentious divestitures, before political 
considerations render tough choices impossible. As set forth 
below, the PA faces a huge challenge in meeting this deadline. 
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Tupras (Refinery) 
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7. (Sbu) Tupras has been in the PA portfolio since 1990. A 
tender last fall produced a high bid of USD 1.3 billion to a 
consortium of the Russian oil company Tatneft and the Turkish 
conglomerate, Zorlu group. The sale was originally expected 
to be concluded by the end of 2003, but the sale has been 
delayed by difficult contract negotiations and by lawsuits 
brought by Tatneft,s minority shareholders and by Tupras 
unions. Shortly after Kilci opined to us that the sale would 
be finalized by the end of June, an appeals court reinstated 
a lower court restraining order blocking the sale. While the 
PA may well be successful in its appeal to the Council of 
State, this sell-off is already being compared to the 2003 
Petkim and Tekel debacles. As Tupras is the only possible 
near-term &win8 for the PA, if the appeal is lost the PA,s 
credibility, such as it is, will be badly damaged. 
---------------------- 
Petkim (Petrochemicals) 
---------------------- 
8. (Sbu) Petkim also has been in the PA portfolio since 1990. 
Though the PA had accepted the bid by the Uzan group,s 
Standart Kimya in 2003, once the Uzan group companies were 
seized over the Imar Bank collapse, Standart Kimya was unable 
to come up with the funds to make the initial payment, and 
the PA had to cancel the tender.  It then re-tendered the 
company, only to cancel the tender in January for lack of 
interest. Kilci said he hopes to announce a tender this year 
or early next year, but first he &wants to see some good 
financial statements.8 (For 2004 Q1, Petkim reported a USD 
40 million loss.) At his press conference, Unakitan said the 
PA would re-tender by the end of the year.  Comment: The 
problem with waiting for &good financial statements8 is 
two-fold: First, the wait could be long. Second, in its 
valuations PA seems to apply to earnings a much higher 
multiple than do investors. As such, as a company,s 
performance improves, it perversely becomes more difficult to 
sell, because the discrepancy between the PA,s valuation and 
those of potential purchasers is magnified. End Comment. 
 
 
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Erdemir (Iron and Steel) 
------------------------ 
9.  (Sbu)   Erdemir has been in the PA portfolio since 1987. 
Ilter explained that the PA wants to delay the block sale of 
the state,s 50% interest in Erdemir until (a) its 
publicly-traded stock recovers the value it recently lost 
(because of what Ilter considers an overreaction by the 
market to a fall in Chinese steel purchases), (b) the Tupras 
sale is concluded (thus demonstrating the &credibility8 of 
Turkey,s privatization program), and (c) additional 
investors show interest (two have shown interest so far, but 
Ilter very much wants to see other investor interest). 
Comment:  The PA will be waiting a very long time for all 
three of Ilter,s conditions to come into alignment. 
Ilter,s caution is unfortunate: Erdemir has been profitable 
in 2003 and likely in 2004, benefiting from surging local 
demand from the booming Turkish auto and white goods sectors, 
and probably could be sold relatively quickly.  Econoff 
recently visited Erdemir,s headquarters in the Black Sea 
town of Eregli and will report septel. End Comment. 
--------------------- 
Turkish Airlines (THY) 
--------------------- 
10. (Sbu) THY has been in the PA portfolio since 1990. Ilter 
explained that the PA is considering a limited public 
offering of 20-30 percent with a subsequent block sale. 
Kilci thought the IPO could be concluded before the year end. 
 Ilter revealed that the Transport Minister has held up 
approval to prepare for the IPO.  According to Ilter, this is 
probably because of the Transport Minister,s irritation that 
the PA, under the authority of Finance Minister Unakitan, has 
the lead on the THY privatization. 
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Tekel (Tobacco) 
---------- 
11.   (Sbu) Tekel has been in the PA portfolio since 2001. 
The GOT,s rejection last fall of the high ($1.3 billion) bid 
for Tekel,s tobacco operations has left the PA frantically 
-- and to date unsuccessfully -- searching for options. Kilci 
said that the PA is trying to develop a &more attractive 
model.8 However, the only meaningful alternative that has 
been suggested ) separate sales of individual brands -- is 
not under consideration. The privatization of Tekel,s 
smaller alcohol operations was successfully completed earlier 
in 2004, the only significant company privatized by the GOT 
in the past year. 
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Turk Telekom 
---------- 
12.(Sbu) Turk Telekom (TT) has been slated for sale since 
1998, though consideration of TT,s privatization began in 
the 1980s. TT is perhaps the most politically controversial 
of the potential privatizations, and the TT privatization 
process comes under its own special legislative framework. 
Although technically not part of the PA,s portfolio, the PA 
is involved in the TT sell-off. The GOT seems to be 
proceeding diligently to address the many problems that must 
be resolved before this sale can proceed, such as amending 
the public procurement law to allow the PA to retain a 
financial advisor for the sale. Kilci agreed that labor is 
TT,s biggest problem, and said that a bill has been 
submitted to Parliament that will aid TT,s downsizing. Kilci 
also stated, however, that the PA can best handle the labor 
problem by finding a &good customer8 for TT. 
 
 
13. (Sbu) The U.S. Trade and Development agency has financed 
a U.S. consultant doing a study of TT,s information 
technology upgrade needs.  Econoffs recently met with the 
consultant, who described a company with serious systems 
problems. The consultant said TT desperately needed 
investment in new systems, and he wondered about the 
company,s ability to manage IT projects.  The consultant 
said TT had clearly underinvested for years, lacked a 
customer service mindset, and badly needs strengthened 
management, marketing and systems. 
------------------------ 
Electricity Distribution 
------------------------ 
14.(Sbu) Under the GOT,s recently-agreed energy sector 
strategy, elaborated with the help of the World Bank, the GOT 
plans to privatize some government-owned generation 
facilities and divide the country's distribution network into 
21 regions, creating a joint stock company for each region, 
and establishing regional tariffs. The difficulty is that, in 
the Eastern part of Turkey, up to 80 percent of all 
electricity is stolen.  The total loss nationwide is 
estimated at $1.75 billion annually. Thus, at present, with a 
national tariff system, the Western part of Turkey, in which 
leakage is much smaller, is subsidizing the Eastern part of 
Turkey. Kilci advised that the World Bank has now agreed with 
GOT to maintain national tariffs for five years, during which 
time the GOT expects private distribution companies to 
significantly reduce losses. 
 
 
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State Bank Privatization: 
------------------------ 
15. (Sbu) The privatizations of state-owned Ziraat and Halk 
Banks, and of state-controlled Vakif Bank are central 
elements in IMF and World Bank programs in Turkey.  In the 
course of the negotiations over the IMF,s Seventh Review, in 
March and April, the GOT agreed with the IFI,s on a state 
bank privatization strategy for Halk and Ziraat, and 
continues to try to resolve ownership structure issues that 
prevent the privatization of Vakif.  As reported earlier, the 
strategy is to shrink Ziraat and Halk*especially their 
outsized government securities portfolios*to prepare for 
eventual privatization.  Though Halk and Ziraat management 
initially behaved contrary to the strategy, by aggressively 
competing for consumer lending business, several contacts 
have confirmed that these banks have finally been reined in 
by Treasury, and are no longer undercutting private banks, 
lending rates.  Rodrigo Chavez, the World Bank economist who 
has the lead on the state bank issue, told econoff the plan 
is for the GOT to pull $5 billion in capital out of Ziraat 
and Halk in the coming months. He said the GOT moved rather 
quickly to select an advisor, McKinsey, who is already 
working on the process.  Comment: Despite the progress, and 
Chavez, optimism, the privatization of these banks, with 
their gigantic branch networks and payrolls, is likely to be 
a very long process. End Comment. 
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Comment: 
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16. (Sbu) Though the privatization program is seriously 
undermined by widespread anti-privatization attitudes, 
litigious labor unions, and unsympathetic and capricious 
courts, the GOT itself has yet to demonstrate that it 
understands the efficiency gains that could be obtained from 
faster privatization, or has the will and competence to speed 
up the process.  The GOT has proven adept at convincing the 
IFI,s that it is working towards privatization, while, by 
and large, only the small companies are actually transferred 
to the private sector. 
 
 
EDELMAN